What are the benefits of over paying CEOs ? What are its detrimental aspects ? If you run a social business what is your position regarding this controversial topic ?
There have long been calls to curb exorbitant so-called “fat cat” pay. While employees may receive a yearly pay rise that does not even cover the cost of inflation, CEOs often receive packages that run into the millions. This has led to an increasing monetary gap between rich and poor, with previously considered “middle class” people running into financial difficulties. While workers up and down the country are simply fired, CEOs are given pay-off packages that would cover one person’s salary for a year many times over. CEOs frequently receive a healthy bonus even if they have performed poorly. The media has enjoyed highlighting such individuals and bringing them to the attention of the general public, and all of this has been the source of great controversy. Many have started to question the role of the super managers payments, on the widening inequality of our current times. One of these, was Thomas Piketty, in his book Capital for the XXIst century.
Writing for Democracy in 2014, Susan Holmberg and Mark Schmitt argue that the problem of the overpaid CEO emerges from the nature of organisations themselves. An organization which is still just interested in increasing the profits is obviously very different from another one that aims for combining profitability with social good, which is the case of a social business. In mainstream businesses monies are diverted away from the organisational greater good, this activity of giving massive salary packages, bonuses and pay-offs to CEOs causes other difficulties. In particular they explain that:
“The greater cost may be the risky behaviour that very high pay encourages CEOs to engage in, especially when pay is tied to short-term corporate performance.”
This leads to situations where CEOs undertake activities that are not particularly strategic in the longer term to show that they have achieved everything that they were supposed to, meaning that they get to take home a massive economic reward.
History of CEO Pay
According to Holmberg and Schmitt the massive jump in CEO pay started to pick up speed in the 1970s, and that this trend continued until the 2008 financial crisis. It is argued by Holmberg and Schmitt that some of the largest increases occurred during the 1990s when growth rates of CEO salaries were exceeding 10%. Indeed, it is quoted that between 1978 and 2012 CEO pay increased by a massive 875%. Of course regular workers did not experience such a tremendous growth in their wage, or even anything like it.
In the USA at least there have been various attempts to address the problem of executive pay. For starters in 1934 the Securities Exchange Act requires “shareholder proxies to report compensation of the corporation’s top three executives,” (Holmberg and Schmitt). Additionally, Holmberg and Schmitt explain that since the New Deal companies also have to cite what they pay for consulting on compensation. Another approach that has been utilised is the tax code. As outlined by Holmberg and Schmitt this was used as early as the 1950s to try to curtail these phenomenal salaries. However Holmberg and Schmitt also explain that the tax code impact on executive pay did not really get a handle on the problem until the 1990s. However, this led to performance related pay to be introduced which allowed organisations to use this loophole to boost salaries for CEOs still further.
What are the arguments in favor of CEO high pay?
One argument that is often made to justify the enormous pay packets that CEOs take home is that these CEOs are worth what they are paid because they add that amount of value to the organisation. It is argued that a great CEO offers tremendous value and as a result should be compensated accordingly. However, this is very difficult to measure in reality. As argued by Holmberg and Schmitt in most cases it is the work of the CEO’s team that allows this performance to be achieved. Of course, the CEO leads these people to success, arguably, but there are also a great many other factors that have a bearing. This leads Holmberg and Schmitt to argue that CEOs are paid for luck rather than performance.
The detrimental aspects of overpaying CEOs
Ultimately, as Holmberg and Schmitt point out CEO pay of this nature is detrimental. It is caused by CEOs having too much power over the way in which decisions are made in such firms, argue Holmberg and Schmitt. It is explained by Holmberg and Schmitt that the problem is not just the fact that the public finds it distasteful. Rather it creates tremendous economic inequality that is damaging in society. It drives risk and rewards “fraudulent behaviour”. And CEOs should be motivated to take risk, explain Holmberg and Schmitt, but actually they are not motivated to do so at all – after all a drop in the share price will impact what they take home. So it could be argued from this that CEOs are not really motivated to do their jobs. There is no doubt that something has to change. But until the way the system is set up changes, it can be seen that it is unlikely to do so.
In the following video, Thomas Piketty proposes something that could bring a solution to this dilemma. Whether that will happen in the near future is a question yet to be seen.
Paula Newton is a business writer, editor and management consultant with extensive experience writing and consulting for both start-ups and long established companies. She has ten years management and leadership experience gained at BSkyB in London and Viva Travel Guides in Quito, Ecuador, giving her a depth of insight into innovation in international business. With an MBA from the University of Hull and many years of experience running her own business consultancy, Paula’s background allows her to connect with a diverse range of clients, including cutting edge technology and web-based start-ups but also multinationals in need of assistance. Paula has played a defining role in shaping organizational strategy for a wide range of different organizations, including for-profit, NGOs and charities. Paula has also served on the Board of Directors for the South American Explorers Club in Quito, Ecuador.